The Breakdown | Explaining Southern California's economy

Brown budget makes case for California tax increases

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California Gov. Jerry Brown revealed his 2012 budget today — earlier than his office had planned, due to an error or technical glitch that caused the budget to be posted prematurely on the Department of Finance's website.

The budget doesn't really sugar-coat the challenges that the state faces, although as the L.A. Times points out, the deficit situation has improved greatly:

[The budget] paints a better fiscal picture than just a year ago, when the state faced a $26-billion deficit. Brown's budget anticipates closing the current gap through a combination of spending cuts and the tax increases, which would kick in at year's end, providing $4.4 billion in revenue.

Ah, the tax increases. Brown laid them out back in December, when he published an open letter on the governor's website. I posted on the plan at the time:

Brown wants to go straight to the voters, via the ballot initiative process. The plan is fairly simple:
My proposal is straightforward and fair. It proposes a temporary tax increase on the wealthy, a modest and temporary increase in the sales tax, and guarantees that the new revenues be spent only on education. Here are the details: 
• Millionaires and high-income earners will pay up to 2% higher income taxes for five years. No family making less than $500,000 a year will see their income taxes rise. In fact, fewer than 2% of California taxpayers will be affected by this increase. 
• There will be a temporary ½ cent increase in the sales tax. Even with this temporary increase, sales taxes will still be lower than what they were less than six months ago.
• This initiative dedicates funding only to education and public safety—not on other programs that we simply cannot afford. 

The summary to Brown's budget ups the temperature. Brown is calling for almost $1.4 billion in cuts "in welfare and child care for the poor," according to the Sacramento Bee. If the tax-cut measure doesn't pass, trigger cuts that kick in Jan. 2013 would reduce overall education funding by more than $5 billion. Schools and community colleges would make up the bulk of these cuts: $4.8 billion. 

The summary, in a minor masterstroke of political rhetoric, calls the cuts a "backup plan":

The California Constitution requires that the annual state budget be balanced. To pay the state’s bills on time, the budget must be credible and financeable. The Budget proposes a backup plan if the ballot measure is not approved. The plan specifies $5.4 billion in cuts affecting education and public safety—the areas protected by the Governor’s initiative.

There's also some crisp macroeconomic analysis of why the state's finances are so messed up. Two things jump out. First, there's the glacial pace of recovery from the financial crisis, not to mention the financial crisis itself, the effects of which are still being disproportionately felt in California:

The employment bounceback from this very severe recession has been so weak that the state’s job level will not reach its pre-recession level until 2016. This slow jobs recovery,due in part to a housing market that remains mired in a slump, continues to take its toll on state revenues.

Baseline General Fund revenues are projected to total $89 billion in 2012?13. Five years after the recession, state revenues are below their peak and tens of billions of dollars below the level expected prior to the recession. General Fund revenues are not projected to return to their 2007?08 level until 2014?15.

Second, the state is far more dependent on being able to accurately forecast the income of high wage earners — probably because high wage-earners are seeing their incomes make up a significant larger portion of money that gets earned in California:

[F]orecasting income for high income tax payers is difficult. During the economic recovery, income among top earners has grown at a much faster rate than income among all other groups. In 1980, the top one percent of taxpayers had about 10.5 percent of total income. This percentage has ebbed and flowed over time, but the trend has been upward. For 2010, data suggest that this group had over 22 percent of total state income. The Budget forecasts that income for top earners will continue to recover and grow at a faster rate than the income of all other earners.

Faced with data like that, it's east to see why Brown wants to combine some tough budget cuts with a demand for high earners to pay modestly higher income tax, for the projected period of time it will take to reduce the structural budget deficit to zero (it's projected to fall to $1.9 billion by 2015-16 and to continue a downward trend thereafter). Our rates are the highest in the nation, but the situation, while not as dire as it was a year ago, is still pretty dire. Brown's plan isn't mincing words when it says that the "state face a 'wall of debt.'"

That said, while there's clear political toughness in it, the Brown budget looks to a brighter financial future. I wasn't so optimistic late last year:

[I]t's difficult to see how even higher taxes and spending cuts will get the job done. And we haven't even gotten into the underfunded state pension crisis yet (the Little Hoover Committee put it at $240 billion in 2010).

2012 will definitely see a good old-fashioned battle on this issue. The question is whether the natural politics of the matter, with camps falling back into time-honored positions, will lead to a failure of imagination as the state stares down bankruptcy. Do we really want to find out if the federal government thinks California is too big to fail?

However, as I blogged today, U.S. GDP growth projections for the fourth quarter of 2011 are picking up, and the unemployment crisis could finally be fading just a bit. So maybe given enough time, cuts and taxes will get the job done. Maybe.

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